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As I See It: May 2022

Hello and welcome to our regular monthly update.

A particular welcome to our overseas clients who we hope to see face to face very soon as borders reopen. 

Interest Rate Rise

The RBA has raised interest rates by 25 BP to 35 BP reflecting the strength of the economy and acknowledging that inflation is currently tracking above the 2-3% target for the bank. There have been similar responses in comparable countries around the world. Comparatively Australian interest rates remain at a historically low level.  On balance raising rates should be seen as a sign of confidence in the country’s financial prospects. While this decision was anticipated by the market, reflected in bond prices, it is the first increase of interest rates in Australia for 12 years. Clients under the age of 30 have never experienced rising interest rates in their adult life. At this stage the RBA have indicated that they will continue to raise interest rates by 25 BP monthly for the foreseeable future with best estimates setting a new target of 2% by the end of this calendar year.

It is still to be determined how much of the current inflation is transitory reflecting closed borders limited access to labour or weather primarily if our wage increases there will be a longer-term issue that will require higher interest rates to manage. On the positive side improvements in technology are leading to reductions in costs in many discretionary items and people are generally living more efficient lives with greater choices. The graph below showing interest rates over a much longer period in Australia and puts the current rate rise in context. Overnight the US lifted interest rates by 50 BP, the highest lift in 20 years.  Share markets had a relief rally, and the DOW was up 1000 points.

Historical Australian Interest Rates (Source: RBA)

Federal Election 

The next few weeks will be dominated locally by the upcoming federal election which is an important part of our democratic process with voting compulsory. From a markets point of view there is little to choose between the two major parties as far as any major changes to tax policy.  As such any potential change of government should be already reflected in share prices. Currently there has been a rotation in investment themes from growth type shares particularly in the technology sector to higher dividend value type investments with a predictable income stream that should improve in a higher interest rate environment. The most obvious being the banking sector which should operate with better margins as it passes on interest rate rises to their mortgage holders.

On the flip side both parties have now announced a freezing of deeming rates for the next two years which will allow us to lock in guaranteed returns above the 2.25% asannuity rates rise.  Annuity rates in Australia are now 3.75% pa for three years. Both major parties have indicated that they will increase the income threshold for seniors to access the Commonwealth health card.  This long overdue reform will provide better access for clients to get affordable medicine and allow them to earn a higher level of income before being disadvantaged by their own work endeavours.

Annuity Rates (Source: Challenger)

Overseas Markets 

Overseas and particularly in the US, technology stocks remained volatile in the March quarter reporting season. This in itself is not necessarily a bad thing and is now presenting some buying opportunities of very good companies and a more reasonable price. In addition to stock specific matters, rising interest rate environment reduces the future long term valuation models of these businesses the most probable outcome will be a flight to quality where investors will stick to one established companies with strong pricing power and avoid some of the more marginal businesses listed on stock markets for the wrong reasons. With equity markets stabilising after very significant growth last year, we can expect a tougher business environment as interest rates normalise. This is a positive long-term position for investors and reduces the prospects of a major market correction due to stock being priced significantly higher than their true value.

Examples of last week’s volatility included Netflix falling by 35% on reduced subscribers and demonstrates the danger of backing individual companies subject to quarterly earnings reports irrespective of market conditions. The graph below shows the recent performance of the FAANG’S. Some of whom have market capitalizations higher than the entire Australian market. The US technology sector is becoming very concentrated on a handful of shares which had the capacity to meaningfully impact on the wider tracking indexes. As always for those with a long-term view of at least five years there should be some good buying opportunities popping up over the next few months.

FAANGS recent performance (Source: Bloomberg)

Australian Property Market 

After a remarkable run of growth over the last 18 months it does look like the Australian property market has stagnated except for Brisbane. This is quite a welcome sign and providing properties do not decline significantly in value should lead to a stabilisation of the market allowing younger people to make their first home purchase. To support this, both sides of politics our offering subsidised equity ownership to assist the Bank of mum and dad in allowing younger people to own their first home at a younger age when most need help.

While housing unit prices may have stabilised there has been a significant increase in the cost of rent in our capital cities supplemented by a shortfall of available property in desirable areas. There are several inner-city suburbs with vacancy rates below 1% leading to much higher rents when tenants vacate. To some extent this is the natural extension of higher property prices funded by large mortgages which may well rise significantly over the next two years. With our borders opening and both students and short-term visa holders coming back into the country our cities should become much more vibrant which should also stimulate the economy. For those of you with variable mortgages you should consider reviewing these with us by emailing haydn.dale@virtueandpartners.com.au to ensure you have the capacity to manage any increase in your payments over the next few years.

Property Market~30 April (Source: Corelogic) 

April Movement (Source: Corelogic)

Looking to the future

As you would expect the next two months will be particularly busy for the practise as we adjust clients’ portfolios to reflect the changing economic environment, we are living in.  Where possible we are rationalising the organisations we deal with focusing on using improved technology to provide a better and quicker service to clients. I will be writing to you specifically about this in separate correspondence with the goal to be able to support as many clients as possible in an efficient manner through the greater use of online consent and confirmation forms. This will be similar to the SMS communication you are increasingly receiving from your banks and will be subject to the highest level of security. It may take a little while for this to settle down and we will be fully resourced to make this aspainless as possible. There are further details available on our website and as ever both Fiona and myself welcome your emails and referrals from your friends.

With my best wishes


Posted by Dr Tony Virtue, Principal


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